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Concepts of Supply and

Demand
Supply and demand are the two words

that economists use most often.


Supply and demand are the forces that
make market economies work.
Modern microeconomics is about supply,
demand, and market equilibrium.
A market is a group of buyers and sellers
of a particular good or service.
The terms supply and demand refer to the
behavior of people . . . as they interact
with one another in markets.

Demand Analysis

Demand can be referred as the


number of units of a product that the
consumer are willing and able to buy
at given price.

Determinant of Demand

Price of the Product


Income of the consumer
Taste and Preference of the consumer
Price of other products
Size of the Population
Consumers' future expectation
Climatic Condition
Government Policies

DEMAND

Law of Demand
The law of demand states that, other things
equal, the quantity demanded of a good
falls when the price of the good rises.
Exception of the Law of Demand
Giffen Goods
Demand Schedule and Demand Curve
The demand schedule is a table that shows
the relationship between the price of the
good and the quantity demanded.

Catherines Demand
Schedule

Demand Curve
The demand curve is a graph of the
relationship between the price of a good
and the quantity demanded

Figure 1 Catherines Demand


Schedule and Demand Curve
Price of
Ice-Cream Cone
$3.00
2.50
1. A decrease
in price ...

2.00
1.50
1.00
0.50
0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of
Ice-Cream Cones
2. ...increases quantity
of cones demanded.

Market Demand versus Individual


Demand
Market demand refers to the sum of
all individual demands for a
particular good or service.
Graphically, individual demand
curves are summed horizontally to
obtain the market demand curve.

The Market Demand Curve

When the price is $2.00,


Catherine will demand 4
ice-cream cones.

Catherines
Demand

Price of IceCream
Cone

When the price is


$2.00, Nicholas will
demand 3 ice-cream
cones.

Nicholass
Demand

Price of IceCream
Cone

2.00

2.00

1.00

1.00

1.00

Quantity of Ice-Cream
Cones

When the price is


$1.00, Catherine will
demand 8 ice-cream
cones.

Market
Demand

Price of IceCream
Cone

2.00

The market demand at


$2.00 will be 7 icecream cones.

Quantity of Ice-Cream
Cones

When the price is


$1.00, Nicholas will
demand 5 ice-cream
cones.

13

Quantity of Ice-Cream
Cones

The market demand at


$1.00, will be 13 icecream cones.

Shifts in the Demand Curve


Change in Quantity Demanded
Movement along the demand
curve.
Caused by a change in the price
of the product.

Changes in Quantity
Demanded
A tax on sellers of

Price of IceCream
Cones

$2.0
0

ice-cream cones
raises the price of
ice-cream cones and
results in a
movement along
the demand curve.
A

1.00

D
0

8Quantity of Ice-Cream Cones

Change in Demand
A shift in the demand curve, either to the
left or right.
Caused by any change that alters the
quantity demanded at every price.

Shifts in the Demand Curve


Price of
Ice-Cream
Cone
Increase
in demand

Decrease
in demand

Demand curve,D3
0

Demand
curve, D1

Demand
curve, D2

Quantity of
Ice-Cream Cones

Factors affecting shift in Demand Curve

Consumer Income
As income increases the demand for
a normal good will increase.
As income increases the demand for
an inferior good will decrease.

Consumer Income Normal


Good
Price of IceCream Cone

$3.0
0
2.5
0
2.0
0
1.5
0
1.0
0
0.5
0

An increase
in income...
Increase
in demand

D1
0 1

2 3 4 5 6 7 8 9 10 11 12

D2

Quantity
of IceCream
Cones

Consumer Income Inferior


Good
Price of IceCream Cone

$3.0
0
2.5
0
2.0
0
1.5
0
1.0
0
0.5
0

An increase
in income...
Decrease
in demand

D2
0 1

D1

2 3 4 5 6 7 8 9 10 11 12

Quantity
of IceCream
Cones

Prices of Related Goods


When a fall in the price of one good reduces
the demand for another good, the two goods
are called substitutes.
When a fall in the price of one good increases
the demand for another good, the two goods
are called complements.
Expectations
a. Future Income

b. Future Prices

Table 1 Variables That Influence


Buyers

MARKET DEMAND FUNCTION


The market demand function for a product is a
statement of the relation between the
aggregate quantity demanded and all factors that
affect this quantity. In functional form, a demand
function may be expressed as
Quantity of product X demanded = Qx = f (Price of
X,Prices of Related Good, Expectations of Price
Changes, Consumer Incomes, Tastes and Preferences,
Advertising Expenditures, and so on)
To illustrate what is involved, assume that the
demand function for the automobile industry is
Q = a P + a PI + a I + a Pop + a i + a A
1

This equation states that the number of new domestic automobiles demanded
during a given year (in millions), Q, is a linear function of the average price of
new domestic cars (in $), P; the average price for new import cars (in $), PI;

If

all
other
determinants
held
constant ,the relationship between
price and quantity demanded is
Q= a-bP

Law of Demand
The law of demand states that, other things equal, the quantity
demanded of a good falls when the price of the good rises.

Assumptions of Law of Demand


There should be no
consumer
There should be no
goods
There should be no
the consumer
There should be no
There should be no
expectations about

change in the income of the


change in the price of the related
change in the Taste and preference of
change in the government policy
change in the consumers
prices

Why Law of Demand Works


Income Effect
Substitution Effect
Diminishing Marginal Utility

Exceptions of Law of
Demand
Future Prices
Prestigious goods
Giffen Goods

SUPPLY
Quantity supplied is the amount of a good that sellers are
willing and able to sell at a given price, per unit of time.

Determinants of supply
Price of the Product
Price of the Related Product
Input Price
Government Policies
Number of Sellers
Technology
Climate
Strike, Lock-out etc

Law of Supply
The law of supply states that, other things equal, the
quantity supplied of a good rises when the price of
the good rises.
The Relationship between Price and Quantity Supplied
can be explained by Supply Schedule and Supply Curve
The supply schedule is a table that shows the relationship
between the price of the good and the quantity
supplied.

The supply curve is the graph of the relationship


between the price of a good and the quantity
supplied.

Bens Supply Schedule

Figure 5 Bens Supply Schedule and


Supply Curve
Price of
Ice-Cream
Cone
$3.00

2.50
1. An
increase
in price... 2.00
1.50
1.00
0.50
0

1 2

9 10 11 12Quantity of
Ice-Cream Cones

2. ...
increases quantity of cones supplied.

Market Supply versus Individual


Supply
Market supply refers to the sum of all
individual supplies for all sellers of a
particular good or service.
Graphically, individual supply curves
are summed horizontally to obtain
the market supply curve.

Shifts in the Supply Curve


Change in Quantity Supplied
Movement along the supply curve.
Caused by a change in anything that
alters the quantity supplied at each
price.

Change in Quantity Supplied


Price of
Ice-Cream
Cone

S
C

$3.0
0

1.00

A rise in the
price of ice
cream cones
results in a
movement
along the
supply curve.

Quantity
of IceCream
Cones

Shifts in the Supply Curve


Change in Supply
A shift in the supply curve, either to the
left or right.
Caused by a change in a determinant
other than price.

Figure 7 Shifts in the Supply


Curve
Price of
Ice-Cream
Cone

Supply curve,S3

Decrease
in supply

Supply
curve, S1

Supply
curve, S2

Increase
in supply

Quantity of
Ice-Cream Cones

Factors affecting shifts in the Supply


Curve

Input prices
Technology
Expectations
Number of sellers

Table 2: Variables That Influence


Sellers

Market Supply Function


The market supply function for a product is a statement of the
relation between the quantity supplied and all factors affecting that
quantity.
Quantity of product X supplied = Qx= f(Price of X, Prices of Related Goods,
Current State of Technology, Input Supplied Prices, Weather, and so
on)
consider the automobile industry example discussed previously and
assume
that the supply function has been specified as follows:
Q = b1P + b2PSUV + b3W + b4S + b5E + b6i
Q, is a linear function of the average price of new domestic cars (in $), P;
average price of new sport utility vehicles (SUVs) (in $), PSUV; average
hourly price of labor (wages in $ per hour), W; average cost of steel ($ per
ton), S; average cost of energy ($ per mcf natural gas), E; and average
interest rate (cost of capital in percent), i. The terms b1, b2, . . . , b6 are
the parameters of the supply function.

SUPPLY AND DEMAND


TOGETHER
Equilibrium refers to a situation in which

the
price has reached the level where quantity
supplied equals quantity demanded.
Equilibrium Price
The price that balances quantity supplied and
quantity demanded.
On a graph, it is the price at which the supply
and demand curves intersect.
Equilibrium Quantity
The quantity supplied and the quantity
demanded at the equilibrium price.
On a graph it is the quantity at which the
supply and demand curves intersect

SUPPLY AND DEMAND TOGETHER


Demand
Schedule

Supply
Schedule

At $2.00, the quantity


demanded is equal to the
quantity supplied!

Figure 8 The Equilibrium of Supply


and Demand
Price of
Ice-Cream
Cone

$2.00

Supply

Equilibrium

Equilibrium price

Equilibrium
quantity
0

Demand

8 9 10 11 12 13
Quantity of Ice-Cream Cones

Equilibrium
Surplus
When price > equilibrium price, then
quantity supplied > quantity demanded.
There is excess supply or a surplus.
Suppliers will lower the price to increase
sales, thereby moving toward equilibrium.

Figure 9 Markets Not in


Equilibrium
(a) Excess Supply

Price of
Ice-Cream
Cone

Supply
Surplus

$2.50
2.00

Demand

4
Quantity
demanded

10
Quantity of
Quantity
Ice-Cream
supplied
Cones

Equilibrium
Shortage
When price < equilibrium price, then
quantity demanded > the quantity
supplied.
There is excess demand or a shortage.
Suppliers will raise the price due to too
many buyers chasing too few goods, thereby
moving toward equilibrium.

Figure 9 Markets Not in


Equilibrium
(b) Excess Demand

Price of
Ice-Cream
Cone

Supply

$2.00
1.50
Shortage
Demand

4
Quantity
supplied

10
Quantity of
Quantity
Ice-Cream
demanded
Cones

Equilibrium
Law of supply and demand
The claim that the price of any good
adjusts to bring the quantity supplied
and the quantity demanded for that
good into balance.